While all the attention is focused on the crisis in the Balkans and Germany, Europe is facing a threat from a different flank – the Iberian peninsula.

The political future of Southern Europe is becoming increasingly murky. Deutsche Bank Research published two reports on Monday, November 9th, focusing on the current state of political affairs in Spain and Portugal.

DB Senior Economist Marco Stringa highlights that while the left is gaining some ground in Spain, according to the most recent polls, the leftist Podemos Party is unlikely to become a major player on the Spanish political scene in the December 10th election.

In Portugal, however, it is a very different story as, according to DB economist Peter Sidorov, the Socialists and their leftist partners have just reached an agreement that has taken power from the current center-right government in Portugal in the vote of confidence which took place on November 10th.

The rain in Spain stays mainly on the plain as Podemos gains likely to be limited

In his report, Stringa points out that although Catalan pro-independence parties in the Catalan Parliament approved a resolution to reject the authority of the Spanish Constitutional Court and begin working on a separate social security system and treasury to gain complete independence as early as 2017, it will almost certainly not actually happen.

Stringa explains: “The pro-independence parties come  from a very heterogeneous political spectrum. Hence, they have only the pro-independence battle to unite them.” This has been true since the days of the Spanish civil war, but one should not under-estimate the threat as Catalonia is 20% of GDP.

He goes on to say that the next step in this legal/political pas de deux is for the Constitutional Court to annul the Catalan resolution as it has on past occasions. Regardless, the moment of decision is coming closer. The motion gives the Government just 30 days to start work on a constitution.  The Spanish PM, Mariano Rajoy, has doubled down, saying “Catalonia is not going anywhere, nothing is going to break”.

Given the current state of affairs, Stringa suggests “a compromise centred on an overhaul of regional financing in 2016 or later as the most reasonable scenario. It will not be easy and a negative outcome cannot be excluded. But there has finally been some opening up by the incumbent PP to a Constitutional reform in the next legislature.”

However, the Catalonians might not be in a mood to compromise especially as German attention is diverted towards Turkey and Syria. The EU could threaten Catalonia with various embargoes if they go ahead with the vote – however, the picture is not pretty.

Portugal

Catalonia aside, Spain has big elections coming up. The opinion polls ahead of the general election the week before Christmas are starting to gel with a somewhat higher probability of a center-right pro-business government coalition retaining power. Moreover, the risk of a government controlled by or beholden to leftist Podemos is declining based on the most recent polls. Signs of recent growth could help Rajoy continue his current austerity policy.

Leftists take control in Portugal

In Portugal, the opposition Socialist party (PS) approved an agreement with smaller leftist parties on Sunday: Left Bloc (BE), communists (PCP) and Greens (PEV). This alliance led to the defeat of the minority center-right PSD/CDS-PP government in a confidence vote scheduled for Tuesday, November 10th.

Sidorov argues that this move dramatically increases the odds of a Socialist-led government eventually emerging, although the President may move for a caretaker government, given his standing disavowal of any government involving the radical left (ie, the BE and PCP parties).

Portugal

Almost any way you look at it, the survival of the center-right government appears improbable. The leftist parties need to get an absolute majority in parliament (116 of 230 votes) to vote down the current government program. Given the leftist coalition in Portugal now holds 122 seats in total (see Figure 1). This means the center-right would have to convince at least 7 of 86 socialist MPs to break ranks, which they have not been able to do.

Sidorov notes there has been some “discontent among the centrist elements of PS, [but] historically high party discipline should ensure that the no confidence vote is successful.”

Sidorov also points out that the revised Socialist program does not espouse radical economic policies, but focuses on faster reversal of temporary austerity measures piled on during the crisis. The PS program projects the national deficit staying below 3%, but with constraints to future structural reform and focus on expansionary policy, which does present some downside risks.

The revised Socialists program negotiated with the radical left includes a boost in the monthly minimum wage to EUR 600 by 2019 and rapid reversal of the public services wage cuts, envisaging a complete reversal of the cuts by the end of 2016 compared to reversal over the course of the full five-year parliamentary term per the center-right program. Whether or not this is reasonable, the decision will ultimately be made by Brussels.

The Socialist leader, António Costa, 54, is now expected to become prime minister in the coming weeks with a broad, leftwing coalition government, which hopes to ease austerity while still adhering to European Union rules.

“The taboo has ended; the wall has been broken,” he said after the vote. “This is a new political framework; the old majority cannot pretend to be what it stopped being.”

Only time will tell if Deutsche Bank was correct with their optimism.